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Tuesday, April 26, 2016

Are high cattle prices being offset by higher costs of production?

By Angus Brown  |  Source: South West Farm Monitor Project, MLA

Key points

  • We are often asked if higher cattle prices are being offset by higher costs of production.
  • The LFMP suggests cattle costs of production in South West Victoria haven’t risen markedly since 2010-11, despite some year to year variability.
  • Real Gross Margins are not falling and are likely to hit a record in 2015-16

2016-04-26 Cattle COP FIG 1

2016-04-26 Cattle COP FIG 2

At a recent cattle market forum we received a number of requests to look at how cattle costs of production increases have compared to movements in cattle prices. While cost of production is a specific measure to a particular operation, especially at a broad level, there are some historical numbers out there we can use to look at how cattle farm margins might be faring with the new higher prices.

Cost of production is basically a measure of how much it costs to produce a kilogram of beef, and in a broad sense it covers variable and overhead costs, but excludes interest and lease costs.  Variable and overhead costs are added up, and divided by the number of kilograms produced. 

There are a number of benchmarking groups which calculate cattle cost of production, but for the purpose of this exercise we’ll look at the Livestock Farm Monitor Project (LFMP) numbers produced by Agriculture Victoria.  The LFMP has been running for 45 years in South West Victoria, and as such we’ll focus on that area for our review.

Figure 1 shows the average and best (lowest) 20% cost of production for beef cattle in Western Victoria for 5 of the past 6 years (2011-12 wasn’t published), along with the average price at January weaner sales. 

After stepping up from 2009-10 to 2010-11 the average cost of production has been relatively steady, ranging from 127-149¢/kg lwt.  The top 20% is obviously lower, but also has a wider range of 65-116¢/kg lwt.  It should be noted that as with all benchmarking groups, the top 20% are not always the same farmers, with different systems giving better results in different seasons.

Assuming cost of production was relatively steady in 2015-16, the 46% increase in prices would almost all have gone towards stronger profits.  However, we do see some link between prices and cost of production in that growers will spend more money on producing more beef when prices are stronger.  This might see costs of production increase in 2015-16, but not by the same extent as the price rise.

Figure 2 gives a longer term view of costs relative to prices, showing the LFMP Western Victorian Average Gross Margin per hectare for beef farmers for the last 45 years.  Gross Margin is a measure of Gross Income minus variable costs, and figure 2 shows it in real and nominal terms.  

What does this mean?

Interestingly the LFMP data suggests that real gross margins have been variable, but haven’t been slowly squeezing, which is contrary to popular opinion.  Gross Margins don’t take overhead costs into account. The average margins under $300/ha seen in 2012-13 and 2013-14 resulted in tight profit levels of under $100/ha before interest and lease costs, which is marginally profitable, at best.

Some of these tight years will no doubt be offset by 2015-16 where the strong rise in prices won’t be matched by increased costs of production.

The sample analysed here is limited, but we can see that costs of cattle production have not risen markedly over the last five years, which is why stronger prices will no doubt see a herd rebuild as gross margins and profits should currently be close to record levels in real and nominal terms.

Mecardo information is provided to assist in your marketing decisions. It contains a range of data and views on the current market. It is not intended to constitute advice for a specific purpose. Before taking any action in relation to information contained within this report, you should seek advice from a qualified professional. The information is obtained from a variety of sources and neither Mecardo nor Ag Concepts Advisory will be held liable for any loss or damage whatsoever that may arise from the use of information or for any error or mis-statement contained in this report. 

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